Our Concepts Unwrapped video on Incentive Gaming, with content and narration provided by Professor Lamar Pierce of Washington University-St. Louis’s Olin School of Business, explains how many people will game incentive systems if given the opportunity. School teachers will teach to the test if they are rewarded based on how many of their students pass standardized tests. Sales people will give discounts to customers in order to meet sales bonus targets. When workers are paid on their performance relative to other employees, they may even sabotage their co-workers’ efforts.
In a controlled corporate experiment done by Agarwal and Ben-David in which loan officers’ compensation switched to volume-based pay from fixed salaries, origination rates rose 31%, loan sizes grew by 15%, default rates soared 28%, and about 10% of the loans began with a negative net present value. This study, of course, is a concrete example of what happened over and over again during the run up to the subprime crisis.
And Moore and Gino remind us that if police officers are rewarded by the number of arrests they make, a worthy goal in theory, they will tend to focus on easy-to-solve crimes like prostitution and ignore the murders and more serious crimes that are harder to solve.
I re-watched the Incentive Gaming video recently, and commend it to you in light of the current Veterans’ Administration scandal, where it is being widely reported that various VA hospitals around the country misreported waiting times for vets seeking medical care. The hospitals apparently reported much shorter waiting times than were actually being experienced by vets needing help. The hospitals maintained a secret wait list. Vets were not moved from the secret list to the official list until the official list was short enough that recommended guidelines were apparently being met.
Why did VA employees do this? Well, it appears that VA officials received bonuses for meeting targets that just happened to involve reducing wait times for vets seeking medical help. Whistleblowers at various VA hospitals have alleged that the secret waiting lists were maintained so that VA administrators and doctors could earn performance bonuses for meeting wait-time targets.
The VA apparently began paying bonuses for meeting wait-list targets in 2011. Indeed, it paid out $194 million in bonuses in 2011. That’s a lot of incentive to game the system.
Official investigations are not over, so the final chapter of this story has not been told. Perhaps the whistleblowers have it wrong. But the scenarios that they describe are completely consistent with the warnings contained in our Incentive Gaming video. Humans can be opportunistic. We need to be incentivized, yes, but incentives should be moderate and not easily manipulated. Creating and maintaining secret wait lists shows how creative highly motivated people can be in gaming systems.
Our video on the Self-Serving Bias provides additional explanation for why VA hospital officials might engage in such shenanigans. Note also that lots of lower-level employees had to be involved for this deception to work, so you might also wish to re-watch our video on Obedience to Authority.
And don’t just tut-tut and think that these VA officials are evil folks and that you would never do such a thing. Watch our video on the Fundamental Attribution Error and remember that studies (Miller & Ratner) show that people tend to underestimate the extent to which they are affected by incentives.
Sumit Agarwal & Itzhak Ben-David, Do Loan Officers’ Incentives Lead to Lax Lending Standards?, NBER Working Paper No. w19945
Celia Moore & Francesca Gino, Ethically Adrift: How Others Pull Our Moral Compass from True North, and How We Can Fix It, 33 Research in Organizational Behavior 53 (2013)